By: Kaitlyn Templin
Despite perceived economic and political uncertainty, global industrial manufacturing deal volume remained healthy throughout 2017, and dealmakers in the space are optimistic in their outlook for 2018. According to PricewaterhouseCoopers’ (“PwC”) Global Industrial Manufacturing Deal Insights Year-End 2017 report,[1] industrial manufacturing deal volume remained relatively flat with 2,491 deals announced in 2017, compared to 2,520 deals in 2016. Furthermore, excluding the $22.7 billion JCI/Tyco mega-deal in 2016, aggregate deal value was steady year-over-year. Looking at year-end performance, Q4 2017 saw a 14% uptick in aggregate deal value from Q3, with the average deal size increasing by 5%.
PwC predicts a rise in M&A activity for the industry throughout 2018 due to several key factors, including an upsurge in repatriation and an increase in GDP growth, as well as record-high stock market levels that could result in a greater use of stock as a currency to close larger transactions. On the supply side, PwC expects that more and more large industrial corporations will divest assets, given the lower tax cost to do so, creating higher quality deal flow for other acquirers.
Similarly, panelists at the February 2018 ACG Annual Midwest Manufacturing Conference[2] remain bullish in their predictions for 2018. These panelists, who included corporate executives from the manufacturing industry, as well as private equity and legal professionals, cited several key trends they expect will contribute to the U.S.’ reputation as a manufacturing investment safe-haven, including corporate tax reform and repatriation, infrastructure investment, and projected economic growth.
Panelists first pointed to new corporate tax policy as a significant driving factor for M&A in the industry. They agreed that the increased perception of visibility on government policy for 2018 will result in a surge of M&A activity through early 2019. In particular, the Tax Cuts and Job Act signed into law on December 22, 2017, cut the corporate tax rate from 35% to 21% in 2018,[3] which panelists view as a positive for M&A activity as stakeholders have more cash to invest in acquisitions. In addition, the Act, with its discounted rate on repatriation, motivates companies to re-shore the cash they hold in foreign stockpiles, which had exceeded $2.6 trillion by the end of 2017.[4] According to the panelists, these incentives are likely to contribute to a rise in investment in US-based manufacturing as they expect companies to bring cash back to the states.
Next, panelists believe the current administration’s proposed infrastructure plan will spur manufacturing industry growth this year, leading to increased M&A Activity within the sector. The plan calls for the expenditure of $200 billion over the course of 10 years in an effort to stimulate $1.5 trillion in local spending for improvements in highways, water systems, airports and railways.[5] The desired impact is to enhance jobs and activity in industries directly related to infrastructure, including manufacturing. If executed successfully, panelists believe M&A activity in the manufacturing industry will rise as buyers seek to capitalize on related opportunities through acquisition.
Finally, the panelists foresee the U.S.’ projected economic growth contributing to the country’s reputation as an investment safe-haven, which they believe will result in a rise in U.S.-based manufacturing industry acquisitions. One panelist referenced Deloitte’s 2016 Global Manufacturing Competitiveness Index, which projects the U.S. (currently ranked #2) to surpass China and reach #1 by the end of the decade.[6] In terms of global competitiveness in general, the United states ranked 2nd in 2017, up from 3rd the year before, according to the World Economic Forum’s annual report. The report, which tracks the global competitiveness of 137 countries based on a strict framework and set of indicators, presented the U.S. as a leader in higher education, job training, quality of companies, market size and technological capabilities.
While the panelists remain bullish on 2018, they did mention they expect the “War for Talent”[7] will remain a key challenge this year. With an increase in digital connectivity, automation and robotics, as well as advancements made in the way of artificial intelligence, panelists lamented over the shortage of highly skilled talent and the scarcity of people who want to work in factories in general. Correspondingly, Deloitte’s 2017 US Public Perception Manufacturing study reports that while 8 out of 10 Americans surveyed believe the US manufacturing industry is vital toward maintaining an average American’s living standards, less than 3 out of 10 surveyed would encourage their children to pursue a manufacturing career.[8] In order to attempt to overcome this hurdle, panelists stressed the importance of maintaining a high level of internal workforce training to continually keep employees up-to-speed with technological advancements.
In summary, dealmakers remain optimistic in their outlook for middle market manufacturing M&A in 2018, given the current economic climate as well as advances in technology. So how can dealmakers achieve success in 2018? From a seller’s perspective, panelists cited the predictable characteristics for achieving top dollar, including having proprietary technologies or highly engineered products, a solid management team, no customer concentration, a recurring revenue model, and a large diversified, addressable market that is ripe for organic growth.
From a buyer’s perspective, given today’s ultra-competitive deal environment, where sky high valuations and shortened exclusivity periods are the norm, panelists stressed the importance of performing thorough due diligence and using transactional tools to adequately protect themselves across all areas of the business. As we have seen on the deals we work on here at EHS Support, buyers and sell-side advisors are pushing for sell-side Quality of Earnings on almost all deals now. In addition, the use of representations & warranties is becoming the norm on all deals.
With increased M&A activity in this sector, what trends are we seeing in Environmental Due Diligence?
As we reported in last year’s manufacturing update, we are still witnessing a significant increase in due diligence before the period of exclusivity. In fact, many of our clients are reaching out to us before they even submit a Letter of Intent, to review materials and perform a high level environmental overview of the target company, so they can be better prepared to ask the right EH&S related questions in management meetings. Correspondingly, on the sell-side, businesses are seeking to get a “leg up” on negotiations and position themselves in the right light to buyers. In order to do this, EHS Support performs sell-side environmental evaluations that they can present to buyers in selling materials. Likewise, in instances where we are representing the buyer, we have witnessed sellers coming prepared with environmental reports ahead of the due diligence period. In these situations, it is important to review these for completeness and accuracy. Finally, we are observing an increased reliance on representations and warranties, as well as environmental insurance, to increase confidence around what buyers may have been missed during shortened due diligence periods.
The Role of Environmental Due Diligence:
As always, thorough due diligence, especially in the manufacturing sector, is a crucial element to realizing a successful transaction. In addition to traditional accounting and financial due diligence involved in an M&A transaction, the manufacturing and industrial sectors have several other unique dynamics that should be considered as part of a transaction. For example:
- Operations – To appropriately address operational concerns that could impact a transaction, it is critical to consider key elements of a company’s operations in areas such as manufacturing facility arrangement and organization, LEAN practices, health and safety performance, health and safety program alignment, and capacity-impacting space constraints. Operational issues such as these are important to understand, especially when a buyer may view them as a considerable potential future liability or expense.
- Environmental – Many manufacturing facilities have long histories of industrial use, and understanding issues of legacy contamination and environmental liabilities can often be complex and time consuming. Thorough environmental diligence is crucial in identifying, quantifying, and managing environmental risks to ensure that these are clearly understood and quantified so buyers and sellers can optimize the financial terms of your transaction.
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[1] Elie, Paul (2018). Global Industrial Manufacturing Deals Insights Year-End 2017. https://www.pwc.com/us/en/industrial-products/publications/assets/pwc-industrial-manufacturing-industry-mergers-acquisitions-q4-2017.pdf.
[2] ACG Global (2018, February 27th). The 6th Annual Middle Market Manufacturing Investment Conference. http://www.cvent.com/events/2018-middle-market-manufacturing-investment-conference/event-summary-1dbacd895d47485a90b6872dbe8df449.aspx
[3] Congress (2017, December 22nd). H.R.1 – An Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018. https://www.congress.gov/bill/115th-congress/house-bill/1
[4] Rubin, Richard. Wall Street Journal. (2017, December 13th). “One-Time Repatriation Rate for Companies is likely to Climb in Final Tax Bill.” https://www.wsj.com/livecoverage/tax-bill-2017/card/1513206054
[5] (2018, February 12th). Reuters. https://www.reuters.com/video/2018/02/12/trump-unveils-15-trillion-infrastructure?videoId=400697942
[6] Giffi, Craig; Rodriguez, Michelle; Gangula, Bharath; Roth, Aleda; and Hanley, Tim. Deloitte. (2016) “2016 Global Manufacturing Competitiveness Index.” Deloitte’s 2016 Global Manufacturing Competitiveness Index
[7] Misthal, Barry. PwC. “Winning the War for Talent.” https://www.pwc.com/gx/en/industries/industrial-manufacturing/winning-war-talent.html
[8] Giffi, Craig; Rodriguez, Michelle; Mondal, Sandeepan. Deloitte. (2017). “US perception of the manufacturing industry.” https://www2.deloitte.com/us/en/pages/manufacturing/articles/public-perception-of-the-manufacturing-industry.html
ABOUT THE AUTHOR Kaity Templin has several years of experience in the NYC financial industry. Prior to joining EHS Support, Kaity began her career as an investment banking analyst at a leading sell-side merger and acquisition advisory firm in NYC. Her experience includes developing and managing lead and client relationships as well as leading the marketing and business development initiatives for EHS Support’s Mergers & Acquisition Due Diligence practice. She also assists in CRM management and market research…… Read More
